I.R.S. Could Crimp Bloomberg's Big Plans

As the Bloomberg administration scrambles to get its development projects in the ground amid a slowing economy and a waning political term, two major planned initiatives the city has championed face a formidable hurdle: the Internal Revenue Service.

For the financing plan for the Atlantic Yards housing and sports arena complex in Brooklyn, and for one being considered for the planned middle-income-housing mega-complex at Hunter’s Point South in Queens, the city would need a favorable ruling from the I.R.S. or face substantially higher costs for both projects. Negative rulings from the federal agency could result in tens of millions of dollars in added costs, putting up new obstacles to major developments that have already seen ambitions scaled back.

For both projects, the city wants to use tax-exempt financing, a method that lowers costs substantially—perhaps more than 15 percent—with the bulk of the savings coming out of federal tax revenues.

And, at least in the case of Atlantic Yards, the I.R.S. is rather wary, as it has called the financing method a “loophole” that it has ordered closed.

The Bloomberg administration contends that for both projects—which use different forms of tax-free financing—the city is simply using a mechanism available to it that the federal government set up.

“We think that this is an effective use of a tool that the federal, state and city governments have all made available for these very purposes,” said Seth Pinsky, president of the city’s Economic Development Corporation. “If the tool is available, it would be irresponsible of us not to use it.”

The push for federal cooperation at Hunter’s Point South comes as the city is exploring a relatively unprecedented model—certainly unprecedented on this scale—to finance and build the mega-complex of apartments for mostly moderate- and middle-income families.

The project, which is currently about three months into the city’s seven-month public approval process, aims to build up to 5,000 housing units in a series of high-rises along the East River, just south of Long Island City. As currently planned, 60 percent would be available to families of middle incomes, between $55,000 and $158,000 for a family of four.

While final decisions have yet to be made, the Bloomberg administration is strongly considering developing the complex through a system that would use tax-free financing for middle-income housing—such financing is traditionally used for low-income housing—an act that the city believes would shave tens of millions off the cost of developing the site.

Under the model being considered, the Bloomberg administration would form a city-controlled 501(c)(3) nonprofit organization that would essentially act as the owner and developer for the apartments. The organization would likely contract out individual duties, such as constructing the buildings and managing the apartments, to individual companies, paying a fee to do so. While the city traditionally bids out entire projects to private developers for low-income and market-rate projects alike, it would take this alternative approach in order to qualify for the tax-exempt financing.

“We think this is the cleanest and most efficient way to finance the project on a tax-exempt basis, and we believe that the additional cost to the project which taxable funding would entail would create a significant burden,” Mr. Pinsky said. Still, he stressed that the final decision had yet to be made, and would depend on cost. “If we were to go down the road of a 501(c)(3), we would need to make sure that the project is constructed in the most efficient and cost-effective manner possible.”

However, the structure would need approval from the I.R.S., and some housing advocates expressed doubt that the federal government would—or at least should—approve a project of this scale under that financing structure.

There are worries about its effectiveness—would the tax savings actually outweigh the inherent inefficiencies that the public sector would carry as a developer?—and some say it sets a dangerous precedent where cities would opt for middle-income housing over low-income housing.